One of the highest financial priorities of Canadian homeowners is to pay off the mortgage as quickly as possible. Most are aware that paying down extra principal in the early years by whatever means possible can shorten the life of your mortgage - and dramatically lower the interest you'll pay over the long haul. "Pay-Off Tips" below describes some of the most effective methods of achieving this.
Mortgage payments made with After Tax Cash
More Canadians are becoming aware that, since mortgage interest is not tax-deductible in Canada, (as it is in the US), you are making mortgage payments of both principal and interest with money that you've already paid tax on - "after tax dollars". This makes it even more important to eliminate the drainage of disposable income as soon as possible!
Prepayments give great Return on Investment
If you pay an average of 6.5% in mortgage interest, for each $1,000 by which you reduce your mortgage principal you will save $65 in after tax cash every year. If you are paying taxes at a marginal rate of 40%, you have to earn $108.33 each year to pay the interest on every $1,000 of principal outstanding...a heavy burden, but also a tremendous implied benefit to reducing this balance. In fact, the example shows that the "return on investment" for making prepayments on your mortgage is 10.833% before tax and 6.5% after tax - far better than most fixed return investments (bonds, GIC's etc.), which currently average about 5.0% before tax and about 3.0% after tax for the same individual.
- Increase your payment annually to the most you can afford. The upside is that most lenders will allow you to reduce it again to the previous level if it turns out to be too great a burden, or your circumstances change.
- Use your RRSP-driven tax rebate religiously as a mortgage prepayment method. Even if you can only prepay annually, make sure these funds are set aside for that purpose. Many Canadians will borrow (at prime) to buy an RRSP to ensure the maximum rebate. When applied to the mortgage principal, this refund is a "gift that keeps on giving". Combining the refund with the tax-free interest earned on the RRSP over the subsequent years will quickly outpace the short-term interest costs of the RRSP loan.
- Make accelerated bi-weekly payments to get a "free" principal reduction equivalent to one full mortgage payment every year - painlessly. Unless you are paid weekly it makes little sense to make weekly payments. All you'd be doing is making a smaller payment, and deferring the difference for a week.
- Make use of double-up privileges wherever possible, telling yourself that you will "skip-a-payment" whenever necessary...then skip only when you absolutely must.
- This discipline has allowed many people to shorten their mortgage life by years within a very short period.
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